INFLATION AND THE ASYMMETRIC EFFECTS OF MONEY ON OUTPUT FLUCTUATIONS

This paper examines postwar U.S. data and tests the implications of Ball and Mankiw's (1994) model of asymmetric price adjustment that monetary shocks have asymmetric effects on output and that the degree of asymmetry is positively related to movements in average inflation. The empirical analysis extends Cover's (1992) framework to allow the degree of assymetry to depend on an expected inflation series generated from Hamilton's (1989) Markov snitching model. The results indicate that monetary shocks display asymmetric effects which are exacerbated by increases in average inflation and that negative monetary shocks have a larger absolute impact on output.